In economic terms, productive efficiency is the situation that exists when a firm is making the most possible output at the lowest possible price per unit of output. When productive efficiency exists, the firm has reduced its costs as much as possible and is making each unit of output at the lowest possible cost of production.

Please do not confuse productive efficiency with allocative efficiency. Allocative efficiency is what happens when there is a free market that is operating properly. Allocative efficiency exists when the “right” amount of each good and service is produced. It exists when there are no shortages or surpluses of any good.

These are not the same thing and productive efficiency does not necessarily imply allocative efficiency. For example, imagine that the government mandates that car companies make X number of electric cars per year. The firms could make those cars at the lowest possible cost (productive efficiency) only to find that consumers do not want them. Allocative efficiency would not exist in this situation and the market would not be functioning properly even though the firms had achieved productive efficiency.